How Is Debt Settlement Reported?

It might only take a quick call to a lender to slash the balance of your loan in half, but doing so could annihilate a good credit score. This is because the creditor will likely report the account as paid as agreed, but for less than the value of the original balance.

Identification

The major credit reporting agencies have several notations for an account paid for less than the full amount. The most common phrases are "debt settled for less than the full amount due," "partial payment accepted" and "settlement," according to Bankrate.com. These appear in a credit report's comments section along with any dispute by the customer. Also, all previous positive and negative items stay with the account.

Effect

Like any item on a credit report, nobody can say exactly how many points a debt settlement costs you, but it will probably be significant, because lenders view debt settlement in the same category as collection accounts or bankruptcy. Also, the Fair Isaac Corp. formula used to determine credit scores gives the most weight to the most recent and derogatory negative item. Thus, even if the creditor writes down the debt, settlement can still cause harm.

Considerations

Most creditors won't listen to a settlement until the borrower is several months behind on his payments, because a person who currently pays on time gives the impression that he can afford the bill. Thus, you may have to stop paying. A payment that is 90 days late or more on your credit report takes 70 to 135 points off your score, or about as much as a foreclosure, according to CNNMoney.com.

Tip

In your debt negotiations, you might be able to demand a "delete letter" from the creditor. A "delete letter" requires the lender to tell the credit bureaus that your account never existed and was listed in "error." If the lender won't bite, you can fix your credit after a settlement by using credit again. For example, secured cards are backed by collateral, so banks rarely reject an application for one and the information is reported to the credit bureaus.